Public debt and private investment in China
by Yi Huang, Marco Pagano and Ugo Panizza, VoxEu.org
The Global Crisis has led to a rapid increase of public debt in developing and advanced economies. Between 2008 and 2015, the average public debt of advanced economies went from 79 to 105% of GDP, and that of emerging market and middle income countries from 35 to 43% of GDP (IMF 2015).
What are the consequences of this rapid increase in debt for our future standards of living? In basic economic models, debt-financed public expenditure can reduce future economic growth by crowding out private investment. Indeed, high levels of public debt are correlated with lower economic growth across countries (Reinhart and Rogoff 2010, Cecchetti et al 2011). However, assessing whether this relationship is causal has proven more difficult (Panizza and Presbitero 2013).
Local government debt in China
China is an ideal laboratory to study how public debt affects the real economy. China responded to the Global Crisis with a massive fiscal stimulus. In November 2008, the Chinese government announced a 4 trillion renminbi (RMB) (approximately $US590 billion) stimulus package. Implementation was immediate and mostly channelled via local governments. In 2009 city-level debt increased by RMB2.5 trillion (Figure 1), while central government debt increased by RMB700 billion (going from 5.3 to 6 trillion)...